Understanding Novation in Real Estate: 3 Examples of Novation

Novation is when an existing contract or legal obligation is replaced with a new one of equal or proximate value. Novation makes it possible to transfer all of the benefits and burdens on an original party in a contract to a new party who was not included in the original agreement. In effect, novation nullifies the original contract and replaces it with a new one. Novation can occur anywhere that applicable contracts are formulated from the financial market, to real estate, to the buying or selling of a business. In real estate, you may need to novate a contract if the terms of your closing agreement changes, the price of the house changes, or another party is added to the contract.

Here is a general overview of the three types of novation.

1. 1. Standard novation: A standard novation is a mutual agreement between two parties in which new terms are added to a former contract, forming a new contract.
2. 2. Expromissio: Exprossimo is when three parties are involved in the transfer of rights—the transferor, the transferee, and the counterparty—and all of the parties must agree to new contract terms in order to move forward with the process.
3. 3. Delegation: Delegation is when a new creditor takes on the contractual responsibilities and benefits of an old creditor, discharging the original debtor from their debts to the first creditor and legally binding the new party to the obligations of the original debtor.

Real estate novation follows the general principles of novation in all other fields, except it specifically applies to real estate contract agreements. With real estate novation, the benefits and burdens of a real estate transaction—like closing costs and inspections—can be transferred from the original party to a new party, or old obligations can be replaced with new terms. When novating an original agreement, the parties are legally responsible for the new contractual obligations and the old agreement becomes obsolete. Novation can affect elements like lease terms, property prices, buyers, and closing costs.

Assignment and novation can both be used to introduce a new party into a contractual real estate agreement. Novation creates a new agreement that transfers the contractual rights and obligations of an original party to a new party. Assignment transfers only the rights and benefits of the original contract to the assignee, but the burdens remain with the original party. The assignor—the person transferring—still remains legally responsible for the terms of the contract. In real estate, assignments are often seen when someone on the lease subleases a rental property to a new party. An assignment doesn’t require the approval of a third party, but a novation does.

There are a few examples of when novation may be required in a real estate transaction.

1. 1. Renegotiating a home price. Novation occurs in some residential real estate transactions when a home seller agrees to change the original selling price for any number of reasons. If a problem comes up in a home inspection and the seller doesn’t agree to fix it, they may agree to lower the price of the home and transfer the responsibilities for fixing the problem to the buyer. If the appraised value of a home is found to be lower than its selling price during a home appraisal, the home buyer and seller may agree to novate their original contract to lower the price.
2. 2. Transferring a lease. Real estate novation may happen when a lease is transferred from one party to another. For example, if an original lessee signs a one-year rental agreement with the landlord for an apartment but wants to leave their lease six months in, they can transfer the lease to a new lessee. With the approval of the landlord, a third party—the new lessee—may assume the responsibility of fulfilling the terms and conditions of the lease contract, releasing the original contracting party from their financial and legal obligations.
3. 3. Changing an earnest money deposit. If a home buyer can no longer put down the required payment agreed upon in an original contract, they may be able to negotiate a novation agreement with the seller who can lower the deposit amount in order to avoid future nonpayment.

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